The Optimistic Bear

The emotionally-charged financial markets are an exceedingly fertile breeding
ground for myths.

Capital, which should be a useful tool and nothing more, tends to evoke incredibly
strong emotions. All kinds of crucial human needs and desires are somehow symbolized
in capital. Foundationally, capital represents the ability to easily purchase
life's necessities like food, shelter, and education free from worry.

More mystically, capital has become a proxy for higher-level human desires.
Virtually everyone seeks freedom, fulfillment, happiness, comfort, and status,
and somehow capital has come to characterize each of these powerful life goals.

There is probably nothing else on Earth that is as powerful of emotional lightning-rod
across entire populations as capital, or its most liquid form, money.

Emotions are the mortal enemy of rationality. Whenever greed or fear squeezes
the hearts of investors and speculators with an iron fist, all of a sudden
there is no room left for reason and it is unceremoniously evicted. Emotions
cause investors and speculators to act impulsively without carefully considering
all their potential courses of action, and the results of this shooting-from-the-hip
style of capital management are universally disastrous.

All the powerful emotions that capital generates inevitably focus on the financial
markets like an industrial laser. Because the emotionally-heavy concept of
capital floods investors' souls and drives out rationality, a complex mythology
has arisen surrounding the markets.

One key myth in the capital markets encompasses bulls and bears. Bulls, of
course, believe the markets are heading higher. Bears, the other side of the
coin, believe the markets are heading lower.

Bulls and bears can both be rational at times, and they can both be emotional
at other times. The emotionally-charged myth that has arisen, however, states
that bulls are optimistic and bears are pessimistic. I would like to address
the popular misconception that all bears are pessimists in this essay.

It is not too difficult to understand the developments that have spawned the
pessimistic-bear myth.

Over the long run, history has unambiguously shown that stock markets have
a strong upward bias. Two major strategic
factors contribute to this phenomenon.

First, general prosperity for the fraction of humanity fortunate enough to
live in the First World continuously increases over time. We humans, deep down,
are an optimistic hard-working lot and we constantly strive to improve the
standard of living for our own families. When countless centuries, diligent
work, advancing technology, and greater general knowledge are all mixed together,
the result is an overall higher standard of living.

In many ways, today's American middle class is blessed with a higher standard
of living and far more creature comforts than even powerful kings of a few
centuries ago. The relentless upward progress of technology and standards of
living allow greater specialization of labor, which frees people to pursue
their passions in business. Broad specialization of labor leads to vastly more
general wealth created. This newly created wealth eventually seeks a home in
the capital markets, bidding up stock prices over the long-term.

Second, the stock markets have a strong upward bias over long periods of time
because of inflation. Unfortunately, all the national currencies on Earth today
are ultimately nothing more than worthless paper. Without any link to anything
tangible of intrinsic value like gold, today's paper money is just that, ultimately
worth nothing more than the paper it is printed on.

Governments love paper money because it grants them the opportunity to levy
a stealth tax on their hard-working citizens trying to save. Like counterfeiters
the governments print ever more new paper money and then quickly spend it on
whatever pet program the politicians are fawning over at the time.

As the overall supply of paper money relentlessly increases, relatively more
money chases relatively fewer goods and services, bidding up general price
levels. Through this inflation of the paper money supply, every dollar saved
today is worth less and less tomorrow in terms of the real goods and services
it will purchase. Inflation is the bane of the existence of hard-working savers
everywhere, their true nemesis.

Less than a century ago, US$20 would purchase a fine man's suit. Today, thanks
to relentless inflation in the United States perpetrated by the ultimate inflation
machine of the unconstitutional Federal Reserve,
finding a $20 bill sitting on a sidewalk is hardly even worth bending over
to pick up anymore. Inflation destroys purchasing power.

Stock market index prices are always quoted in nominal terms, not adjusted
for inflation. This means that they will always tend to rise over long periods
of time in inflationary regimes such as the ones that exist in every major
country on Earth today.

Together the general advancement of technology and progress coupled with fiat-currency
inflation lead to a relentless upward march in stock index prices over the
long-term.

Because the markets tend to ultimately rise, bulls command the loving attention
of the big media. Media companies are in the business of selling advertisements
to earn profits, so they seek to advance opinions with the broadest popular
appeal. In the markets, the bulls always spark greater popular enthusiasm than
the bears. Popular enthusiasm leads to more viewers which lead to higher advertising
revenue for the media companies.

Like all good capitalists, the media companies simply advance the market views
that earn them the highest profits.

The bears, effectively shut out of the mainstream media, have always had to
rely on alternative means of advancing their ideas. For much of the last few
decades, the only forum available for bearish thought was the newsletter industry.
Today, at the glorious dawn of the Information Age, a vast new forum is rocketing
up in importance however, the Internet.

I have been an avid newsletter reader and fan for the better part of two decades.
Newsletters have thankfully exposed me to brilliant men and women who understand
the markets infinitely deeper than the usual short sound-bite blurbs the mainstream
media reports. Always very thankful for an alternative view of the markets,
now I find myself in the newsletter business today, publishing Zeal
Intelligence.

Just like the mainstream media, newsletter publishers also strive to maximize
their profits. I've observed that newsletter editors, often bearish, tend to
grow their circulation by advancing what I call Doomsday Theories. The newsletter
industry has always been rife with talk of The-End-of-the-World-As-We-Know-It
scenarios (TEOTWAWKI).

In the early 1980s, many newsletters voiced concerns about a nuclear war or
Russian invasion of the States. In the late 1980s, after the Great Crash of
1987, many newsletters advanced a Great Depression of the 1990s scenario. In
the mid-1990s, the vogue TEOTWAWKI talk focused on an immediately imminent
crash. In the late 1990s, fear-laden accounts of the coming Y2k computer catastrophe
sold letters.

Now I don't know about you, but I lived through the last two decades and I
can't remember a Russian invasion of the US, nor a second Great Depression
in the 1990s, nor a horrific equity crash in the mid-1990s, and I am certainly
not penning this essay from a candlelit cave on a computer powered by hamsters
thanks to Y2k. While the End of the World will no doubt arrive someday, it
will most likely be a very low probability surprise event that virtually no
one sees coming, not a well-publicized TEOTWAWKI scenario.

Can you see the links of the causal chain here?

Bulls dominate the mainstream media, because bullish thoughts sell ads. That
leaves the bears to languish in the backwoods of the alternative media, which
in the last two decades was the newsletter industry. Newsletter editors, bless
their souls, seek to grow their own businesses so they tend to latch onto grand
TEOTWAWKI theories to drive letter sales.

The net result of this progression is that bears are generally believed to
be raging mega-pessimists because equity bears are often associated with countless
discredited TEOTWAWKI scenarios dredged up from the ghosts of newsletters past.

Now please understand that my intent is certainly not to attack newsletter
editors! Many newsletter editors, even the most legendary pessimists of the
last two decades, are my personal financial heroes. Their hard work and detailed
analysis has been an enormous blessing for me. They have taught me to search
beyond the surface of the markets and to always dig deeper, never accepting
the status-quo paradigm at face value. I will be forever grateful for them
and their great wisdom.

The ultimate personal praise I can heap on the newsletter editors is that
I respect them so deeply that I became one!

The bulls would certainly consider me to be a bear, and they are right based
on my public writings. Way back in the summer of 2000 I was on
the record stating that I believed the NASDAQ would trade under 500 before
this supercycle bust ends. I still believe it
will be so. I have penned countless essays and newsletters explaining in depth
based on hard data and painstaking analysis why I believe this will be the
case.

Does my current bearish outlook make me a pessimist? Heck no!

I strongly believe that bears can be Optimistic Bears!

An optimistic bear?!? Isn't that an oxymoron? No way my dear friends!

The markets travel in great cycles through
history. Over the long run valuations drive stock prices. In history markets
roar up from undervalued levels and languish from overvalued levels. Valuations
are based off the amount of profits that publicly-traded corporations can earn
for their shareholders.

In addition to the long-term great cycles based on the perpetual sine-wave
like swing from undervalued to overvalued back to undervalued levels, there
are also short-term market cycles. Short-term market movements are based almost
exclusively on general emotional sentiment, popular greed and fear.

The legendary contrarian investor Warren Buffett, quoting his mentor Benjamin
Graham, perfectly explains the forces that drive these waves. Over the long
run, Buffett says the markets are a weighing machine, valuing stocks based
on their fundamental worth relative to the earnings they can spin off for their
owners.

Over the short run however, Buffett says the markets are a voting machine.
It doesn't matter which stock is the best candidate to win based on fundamentals,
all that matters is which stock is most popular and likely to be chased by
short-term capital bids (votes) in the marketplace.

Understanding valuation, greed and fear, and long and short cycles is the
essence of contrarian investing. Contrarian theory is the only form of investing
and speculation that has consistently proven immensely profitable over decades
and centuries, so the lessons and wisdom it imparts are truly priceless.

The whole goal of investing can be summarized in four simple words. Buy Low
Sell High. While others give lip service to this key truth, only the contrarians
actually walk the walk.

Sometimes stocks are generally expensive relative to earnings, like the late
1920s, and sometimes they are cheap relative to earnings, like the early 1930s.

Now as prudent investors and speculators, we all need to constantly strive
to buy low and sell high. Imagine if you could be miraculously transported
back in time to the late 1920s. Would you buy or sell knowing what you now
know about the Great Crash of 1929 and the resulting Great Depression? It's
a dumb question, as only a fool would buy at the top (buy high?) or sell at
the bottom (sell low?!?), yet that is exactly what most investors at the time
did!

With perfect 20/20 hindsight it is obviously easy to make the right decisions
looking back in time, but the real game unfolds everyday in real-time with
imperfect information, making it extremely challenging.

Most investors and speculators today choose to run around the markets blind,
frantically trading based on pure emotion like a chicken with its head chopped
off. There is a relatively small band of folks who reject emotional trading
however, the contrarians. They seek to diligently learn the hard lessons of
market history from the people who already suffered through them rather than
learning the hard way by making the same mistakes again themselves.

The contrarians, through their historical studies, realize that markets move
in cycles through history and the cycles endlessly repeat themselves. Overvaluation
inevitably gives way to undervaluation over the long-term, and vice versa as
the wave rolls on. Greed inevitably gives way to fear over the short-term,
and vice versa on the opposite slope of the wave.

If markets move in cycles, and the cycles, while not exactly the same over
time, are predictable enough to rhyme with history, why not use them to Buy
Low and Sell High?

Right now the markets remain far overvalued by all fundamental measures!

If you wish to understand how I can be so brazen as to make such a bold statement,
please skim "Long Valuation Waves" and "Valuation
Wave Reversion" to dig deeper. If the markets are involved in a classic
long-term slide decaying from an overvalued to an undervalued state right now,
why buy today?

If all the weight of history suggests that the stock markets will be lower
a year or two from now, wouldn't it make infinitely more sense to wait for
true undervalued prices rather than buying today at overvalued levels? How
can an investor or speculator Buy Low today if huge amounts of hard empirical
evidence suggest much lower stock prices ahead?

My colleagues and I, and countless other bears, are bearish today not because
we believe a TEOTWAWKI scenario is approaching, but because we are on the down-wave
of a great valuation cycle. History suggests that the best stock bargains in
many decades, maybe in 70 years, are going to show up on our doorsteps gift-wrapped
sometime in the next couple years!

Personally I am absolutely giddy with excitement about buying general US equities
again at rock-bottom prices in the not-too-distant future. My heart would jump
for joy at the historic opportunity to buy elite survivor companies like General
Electric or Microsoft at 7x earnings, half historical fair value of 14x earnings!

In July 1932, the last supercycle bust bottom marking the end of a Great Bear,
one of the greatest stock market rallies in history exploded
off the depths of fear and bearish despair. The Dow 30 rocketed from 41.2 in
July 1932 to 108.7 one year later in July 1933!

This breathtaking 164% annual gain off the bottom in the Dow 30 makes the
NASDAQ bubble explosion of 86% in calendar 1999 look like child's play! And,
unlike buying the NASDAQ at 100x earnings in 1999, an immensely dangerous and
reckless speculation, the end of bust Dow mega-rally in the early 1930s launched
from a very safe undervalued level of only 6x earnings!

You could have bought near the ultimate bust bottom in July 1932 and made
huge profits almost regardless of how long you held elite blue-chip US stocks.
All the research we have done at Zeal as well as the work that countless other
brilliant contrarian researchers have undertaken leads me to believe with all
my heart that such a fantastic opportunity is approaching again.

Please understand that the Optimistic Bear is not cheering-on the horrific
carnage in the US equity markets today. On the contrary, the Optimistic Bear
weeps when families lose their lives' savings in the bubble bust and people
are laid off in droves and can't feed their families without resorting to the
curse of debt.

The Optimistic Bear simply wants to Buy Low and Sell High. It makes no sense
buying now before the ongoing Long Valuation Wave mean reversion has even passed
fair value on the downside. The legendary profits will be made off the ultimate
bottom when no one even wants to hear about the stock markets anymore, not
today while general enthusiasm for stocks still waxes ecstatic.

While some bears embrace TEOTWAWKI theories, back them with powerful arguments,
and will no doubt be right some day, not every bear is a pessimistic bear.
Some bears, like us at Zeal, are raging optimists at heart who can hardly wait
for the legendary buying opportunities to come.

The NASDAQ is going under 400? Fantastic, we can't wait to buy Microsoft,
Cisco, and Dell at 7x earnings each! The real-estate bubble will burst? Awesome,
as we would love to pay $50k cash to gain full debt-free fee-simple titles
on houses that sold for $500k two years earlier! Perhaps a Depression is approaching
in the States? Well, since we can't change the future we will be ready with
the cash to buy great businesses for mere pennies on the dollar at the depths
of despair!

The Optimistic Bear does the prudent thing, zealously preserving his or her
precious capital until the rare real blood-in-the-streets buying opportunities
present themselves.

So my dear friends, please don't let myopic bulls with little minds label
you as a pessimist just because you are bearish and believe superior buying
opportunities are approaching in the not-too-distant future. Don't let someone
get under your skin and impugn your optimism because you have studied history
and they haven't. If tormenting bulls refuse to seek wisdom and understand
market history, let 'em eat cake.

The world has never seen anything before even remotely like the Information
Age. The future is so dazzlingly bright that it defies description. The wealth
created in the last century, the Industrial Age, will probably be a drop in
the bucket compared to the wealth created in the next century, the Information
Age.

I strongly urge you to diligently study history, seek out the legendary wisdom
of the contrarians, and prepare yourself intellectually, psychologically, and
financially to carve out your own piece of the greatest wealth pie the world
has ever seen.

Contrary to popular bullish mythology, there is no inherent contradiction
in being bearish on stocks today but ragingly optimistic in general.

If you have questions I would be more than happy to address
them through my private consulting business. Please visit www.zealllc.com/financial.htm for
more information.

Thoughts, comments, flames, letter-bombs? Fire away at zelotes@zealllc.com.
Due to my staggering and perpetually increasing e-mail load, I regret that
I am not able to respond to comments personally. I WILL read all messages though,
and really appreciate your feedback!

Mr. Hamilton, a private investor and contrarian analyst,
publishes Zeal Intelligence, an in-depth monthly strategic and tactical analysis
of markets, geopolitics, economics, finance, and investing delivered from an
explicitly pro-free market and laissez faire perspective. Please visit www.ZealLLC.com for
more information, www.zealllc.com/samples.htm for a free sample, and www.zealllc.com/subscribe.htm to
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